BV Alibaba 02.09.14 Final

ALIBABA AND THE TWELVE DIGITS
CONTENTS
Introduction 3
Hunting for treasure 4
Why Alibaba could be Chinas next $100 bln IPO
Alibaba spots pricey treasure in Weibos network
Alibabas next superlative: Chinas top fee payer
Alibaba tests the limits of non-bank banking
SoftBanks Alibaba stake both blessing and burden
The cave opens 15
Alibabas triangular dealmaking adds to IPO quirks
Hong Kong needs to defend shareholder democracy
Alibabas big reveal: high growth, odd governance
Alibaba nance arm better out than in for IPO
Risks and rewards 24
Two deals Alibaba could strike in America
Alibaba tries out role of the noble monopolist
Jack Ma soccer buy does Alibaba investors a favour
Alibaba is case-study in U.S.-China legal gulf
The perks and pitfalls of depending on Jack Ma
Twelve digits, many questions 38
Alibabas future doesnt depend on magic numbers
Yahoos Mayer nears post-Alibaba reckoning
Chinas e-commerce secret weapon: the delivery guy
Alibaba payments clean-up makes for neater IPO
Alibaba deal spree turns from romance to thriller
Six steps to Alibabas twelve-gure valuation
BREAKINGVIEWS
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33
INTRODUCTION
BY PETER THAL LARSEN
AUGUST 28, 2014
INTRODUCTION
NOTE FROM THE EDITOR
Breakingviews has been closely following Alibabas journey towards
an initial public offering for over a year. Back in April 2013, we started
digging into what the company might be worth. The article that opens this
collection is the result. To see how our view has evolved since then, check
out the piece that closes this book, Six steps to Alibabas twelve-gure
valuation.
4
BREAKINGVIEWS
Could Alibaba be Chinas next $100 billion stock market listing? The Hangzhou-
based e-commerce giant continues to be coy over when it will take the plunge. But
sooner or later founder Jack Ma will need to offer some kind of exit for his backers,
not to mention employees, and an initial public offering is the most likely solution.
Now is a good time to start asking how the company should be valued.
Alibabas main business is selling. Its Tmall online stores provide a
shop front for brands like Nike and Unilever, while Taobao is focused on
consumer-to-consumer trade. The closest U.S. peers might be Amazon
and eBay. Sadly for valuation purposes, theres no perfect match: unlike
Amazon, Alibaba doesnt hold inventory or manage warehouses, and unlike
eBay, it gets most of its revenue from advertising, not charging users.
HUNTING FOR TREASURE
WHY ALIBABA COULD BE CHINAS NEXT $100 BLN IPO
BY JOHN FOLEY
APRIL 25, 2013
What is Alibaba worth?
Flex the numbers to see what Chinas e-commerce giant might fetch in an IPO
How fast can Chinese
e-commerce grow in
2014?
What is Alibabas take
on transactions?
What operating margins
can Alibaba achieve?
What multiple of 2014
earnings is Alibaba
worth?
50%
10%
Goods sold 2014
$326bln
31%
10%
0%
Revenue 2014
$9.8bln
3%
60%
20%
Earnings 2014
$4.0bln
48%
50x
10x
Implied value
$120bln
30
John Foley, Robyn Mak, Katrina Hamlin, C. Trevethan 07/05/2014

Note: Assumes 84% market share and 15% tax rate in 2014
Click on the graphic to view online, interactive version.
5
Meanwhile, its range of services gets ever wider, and potentially harder
to value. As well as accounting for the majority of Chinas e-commerce, a
market worth $204 billion in 2012 according to the China Internet Network
Information Centre, Alibaba now has a mobile operating system, offers
trade nancing to vendors and may even start offering consumer loans.
The companys chief strategist says it aims to be the worlds biggest data
sharing platform.
Magic number
Fortunately, there are two numbers that really matter. One is how much
Alibaba can sell. The other is what percentage take it gets from each
transaction on its sites. That take might come through advertising or
through transaction fees, or a mixture of both. But ultimately, it represents
the cash the company can squeeze out of its sellers. Other services like
lending may create revenue, but for now they are mainly ways to lock in
users and maintain market share.
Consider a back-of-envelope valuation exercise. The rst question is how big
the overall market can get. Say e-commerce in China grows 35 percent a year
for the next two years, and that Alibaba can keep its current market share of
around 80 percent. That would give it just under $300 billion of transactions in
2014 over four times what eBays marketplaces handled in 2012.
Now imagine Alibaba can raise its take to 5 percent roughly double
what it gets now. For now, Taobao sellers use the site for free, but having
reached critical mass, Alibaba should be able to exploit the network
effect of its 500 million users to generate higher income, either by
introducing transaction costs or selling more targeted ads. A 5 percent
take would still be just a third of what eBay gets from many of its sellers,
and would generate $15 billion of revenue for Alibaba.
The next question is protability. Apply a 30 percent operating prot
margin roughly the level in September 2012, the last period for which
there are reported numbers and the 15 percent tax rate many of Chinas
high-tech companies enjoy, and 2014 earnings would be $3.8 billion. On a
forward earnings multiple of 25 times, the recent average for listed Chinese
gaming network Tencent, that suggests a market value of $95 billion.
6
BREAKINGVIEWS
Opening sesame
In reality, many more factors will affect Alibabas magic number. Ma will need to
time the stock market cycle, but also the tech cycle. With many foreign backers,
Alibaba will most likely need to list on foreign markets, where stock buyers will
be inuenced by what they think of Chinas regulation, economy and accounting
practices. Valuations for companies like Baidu, Renren and Sina show gyrations
not always explained by the performance of their underlying businesses.
Valuations change quickly. Facebooks went from $50 billion in its
fundraising at the end of 2010 to $104 billion at its IPO in 2012; the
company now trades at just two-thirds that value. When Yahoo recently
sold half its Alibaba stake back to the company, the deal valued the
company at just $40 billion. But a bilateral negotiation with a troubled U.S.
company is very different to a stock market listing.
Watch: Alibaba still needs Jack Ma
Alibaba may be undergoing a leadership change ahead of its anticipated IPO, but
the rm still needs its billionaire founder to smooth the way with Beijing, says
Breakingviews John Foley.
7
Besides, internet companies are inherently volatile. Super protability
attracts super competition, and disruptive technologies can take even
established models by surprise. Netscape and Microsoft both showed how
supposedly unassailable market positions can be lost as well as won. If a
twelve-digit valuation is within reach, it makes sense for Alibaba to open
the cave sooner rather than later.

ALIBABA SPOTS PRICEY TREASURE IN WEIBOS NETWORK
APRIL 30, 2013
Alibaba has spotted hidden treasure in Sina Weibos social network. The
e-commerce giant is paying a punchy price for roughly 18 percent of Chinas
microblogging phenomenon, a business that has not yet celebrated its
fourth birthday and is still working out how to generate revenue.
Alibaba has taken a positively contrarian view of Weibos worth. The $586
million investment implies a valuation of $3.26 billion close to the entire
pre-announcement market value of Sina Corp, Weibos parent company.
The implication is that Sina shareholders are putting no value on the
companys existing web portal business and $700 million in cash and short-
term investments. If Alibaba is right, the 9 percent jump in Sina shares on
the news is far too stingy.
Weibos new valuation looks demanding, however. Like their counterparts
at Twitter and other Western equivalents, the companys management
is struggling to convert enormous clout on the web into cash in the bank.
Weibo started experimenting with ads last year. In 2012, they provided just
12 percent of Sinas advertising revenue about $50 million.
The investment has potential benets. It could help point Weibos 46
million daily users towards Alibabas online stores, or give retailers
seamless access to Weibos platform. The two reckon such vague synergies
will generate more than $120 million in additional annual revenue for
Weibo over the next three years.
8
BREAKINGVIEWS
But Alibaba may be thinking less about gains than about potential losses.
Roughly four out of every ve yuan currently spent on e-commerce in China
travel across its platforms. Alibaba wants to defend this from potential
rivals such as Tencent, which has captivated users with its WeChat free
mobile messaging service. WeChat doesnt currently enable e-commerce,
or make any money, but such innovations cannot be ruled out. With a high-
prole initial public offering in the works, Alibaba could use Weibo to give
its own mobile strategy a boost.
Even so, more than half a billion dollars in cash more if Alibaba exercises
an option to raise its Weibo stake to 30 percent remains a big bet. Alibaba
must hope that its prospective investors share its enthusiasm.
Weibo Corp Chairman Charles Chao poses on day one of Weibos IPO on The NASDAQ Stock Market
in New York, April 17, 2014. REUTERS/Andrew Kelly
9
ALIBABAS NEXT SUPERLATIVE: CHINAS TOP FEE PAYER
BY JOHN FOLEY
MAY 20, 2013
Alibabas initial public offering is going to be less about the forty thieves,
and more about the ght for fees. The unlisted Chinese e-commerce giant
is already an important source of advisory and nancing revenue in a weak
market. If a highly anticipated stock market listing comes to pass, it could
become Chinas biggest payer of fees to global investment banks in a
decade.
Alibaba and the ght for fees
Top investment bank fee payers in China and Hong Kong, 2003-2013, US$mln
0
100
200
300
400
500
600
700
800
CNPC ICBC Alibaba
Group
post
theoretical
IPO**
Hutch.
Wham.
Bank of
China
China
Construc.
Bank
CITIC Sinopec AIA Ag. Bank
of China
State
Grid
Alibaba
Group*
CNOOC
Totals include M&A advice, plus fees for for arranging and underwriting debt and equity issues.
*Includes arrangement fees for $6.5 billion syndicated loans, at estimated 1.7pct
**Includes fees for theoretical $15 billion IPO at 1.75pct rate of commission
Catherine Trevethan / John Foley / Robyn Mak
Source: Thomson Financial/Freeman & Co/Reuters Breakingviews estimates
10
BREAKINGVIEWS
As the company has expanded, Chairman Jack Ma has overseen the listing
and de-listing of subsidiary Alibaba.com, the arrangement of a $3 billion
syndicated loan, the restructuring of payment engine Alipay, and a buyback
of shares from U.S. investor Yahoo. Such deals generated combined fees
of $176 million since 2007, according to Thomson Reuters Freeman data,
based on public disclosures and proprietary estimates. Thats more than
any other non-state Chinese company over the same time.
The treasure keeps coming. Alibaba recently secured another $6.5 billion
syndicated loan from a consortium led by nine banks, according to IFR.
Based on an average arrangement fee of around 1.7 percent, the payday
was worth about $110 million.
The next big event could be an initial public offering. The company doesnt
comment on its plans. But given that valuation expectations range from
$60 to $100 billion, its no stretch to think that Alibaba and its backers
could sell $15 billion of stock, a bit less than Facebook did in 2012. Apply a
1.75 percent commission, and the spoils could be $260 million.
All in, that would take Alibaba to roughly $550 million in fees over a decade
ranking only behind oil producer CNPC and lender ICBC in Greater China.
Moreover, unlike Alibaba, CNPC and ICBC have paid the lions share of their
fees to domestic institutions.
Even after an IPO, Alibaba is likely to continue generating fees from
acquisitions and share trades, as big shareholders like Yahoo sell down.
Little wonder, then, that battle lines are already being drawn. SoftBank,
the Japanese company that owns a third of Alibaba, recently warned banks
not to nance a rival bid for U.S. telecom Sprint, or risk being left out of the
e-commerce giants otation, sources told Reuters.
That may be an idle threat, but given Alibabas prospects, few investment
banks would be prepared to put it to the test.
11
ALIBABA TESTS THE LIMITS OF NON-BANK BANKING
BY JOHN FOLEY
FEBRUARY 12, 2014
Alibaba isnt a bank. But for customers its getting hard to tell the
difference. Users of Chinas dominant e-commerce website can now deposit
funds, make investments, take out loans and even give out gifts of virtual
cash. In taking on Chinas lenders, Alibaba and its online rivals may be
taking on bank-like risk.
Banks typically offer savings, loans and transactions. Alibabas foray
into nance has seen it target all three. While the amounts remain small
compared with Chinas towering mainstream lenders, the growth rates
have been rapid. No wonder: state-owned banks have for years beneted
from a tightly-regulated oligopoly.
Promotional models use their smartphones during their break at the Global Mobile Internet
Conference in Beijing, May 6, 2014. REUTERS/Kim Kyung-Hoon
12
BREAKINGVIEWS
Alibaba has long handled payments through Alipay, its version of PayPal.
Now it allows users to invest surplus cash through a service called Yu E
Bao. The funds, which are invested in low-risk securities like government
bonds and interbank loans, offer a return of about 6 percent, double what
savers get on one-year bank deposits. Its a money market fund, not a bank
deposit. But for customers there is little substantive difference.
Alibaba is now getting into longer-term investments. A xed-term product
to be launched through Yu E Bao on Feb. 14 will give customers an
expected 7 percent yield, by investing in property and equities among other
things.
The company also offers loans to small and medium-sized companies who
sell on its Taobao marketplace. By February it had made 170 billion yuan
($28 billion) of loans. While Alibaba doesnt have a banks lending expertise
it does have masses of data on borrowers transaction habits.
The clever part is that Alibaba isnt doing the nancial heavy lifting. Yu E
Bao and the new xed-term product are structured and operated by third
parties. The e-commerce group acts as a conduit. Alibaba isnt technically
on the hook for users cash, nor does it pick investments, according to a
person familiar with the situation.
Strictly speaking, this means Alibaba isnt taking the liquidity risk that
banks face if depositors decide to withdraw their money en masse. That
is why it doesnt need a bank deposit-taking licence, and avoids onerous
regulation from the central bank.
But Alibaba is straying into a grey area. Chinas immature nancial industry
still hasnt been through decisive tests of who takes responsibility when
investments go wrong. For Alibaba, this risk may be heightened. Its users
are young and nancially unsavvy Yu E Bao savers have an average age
of around 28 and trust for Alibabas brands runs high, thanks partly to
founder Jack Mas self-styling as a champion of the little guy.
Even if Alibaba has no explicit responsibility to pay back investors, it may
decide to do so to protect its reputation. The situation with Yu E Bao is
further complicated by the fact Alibaba owns 51 percent of Tianhong, the
fund management company that structures the products.
13
For now, Alibaba and its online rivals are more of an annoyance for banks than
a real threat. But while Alibaba is decidedly not a bank, the biggest risk is that
customers treat it like one. If that happens, its a fair bet regulators will too.
SOFTBANKS ALIBABA STAKE BOTH BLESSING AND BURDEN
BY UNA GALANI
FEBRUARY 27, 2014
SoftBanks investment in Alibaba must be one of the most successful of all
time. Billionaire chief Masayoshi Son injected just $20 million into the Chinese
e-commerce giant in 2000. Today, the 36.7 percent shareholding accounts for a
large chunk of Japanese groups market value. As Alibaba heads toward an initial
public offering, however, Sons investment blessing may become a burden.
The owner of online shopping sites Taobao and the Alipay electronic
payment system is still a private company. Based on its limited nancial
disclosures, Breakingviews estimates it is worth around $113 billion. That
values SoftBanks stake at $41 billion, or 38 percent of the Japanese groups
total sum of the parts, according to a new Breakingviews calculator.
Many of SoftBanks other businesses are already listed. Its 80 percent stake in
U.S. mobile carrier Sprint is currently valued at $26.5 billion. Softbanks 42.5
percent shareholding in Yahoo Japan is worth $15.3 billion. Other stakes in
mobile games maker GungHo, Supercell, and handset maker Brightstar add up
to $7 billion, based on market values or recent purchase prices.
How important is Alibaba to SoftBank?
See how the Chinese e-commerce giants value affects the Japanese group
Components of SoftBanks value, US$bln
GungHo, Brightstar & Supercell Yahoo Japan SoftBank Japan Sprint Alibaba
$0 $20 $40 $60 $80 $100 $120 $140 $160
What is Alibaba worth?
SoftBank sum-of-the-parts
$110 billion
billion
$113
U. Galani, P. Thal Larsen 27/02/2014

Note: Market valuations based on Feb 26 closing share prices.
14
BREAKINGVIEWS
Then theres SoftBanks wholly-owned Japanese telecom business. Apply
an industry multiple of 4.4 times EBITDA, strip out the remaining net debt,
and the equity is worth $19.2 billion. Put it all together, and SoftBanks
parts add up to $109.5 billion.
But investors arent giving Son full credit for his empire, which is broadly
focused on the internet. Though SoftBank shares have more than doubled
in the past year they still trade 16 percent below the combined value of
the companys parts. Some discount is warranted: SoftBank cant easily
sell. However, investors also seem to be overlooking synergies: together,
SoftBanks Japanese and U.S. telecom operations are the worlds second-
largest purchaser of network equipment.
The bigger question is Alibaba. Founder Jack Ma sits on SoftBanks board, but
thats where cooperation appears to stop. For now, the investment is a blessing:
SoftBank is one of the few ways for public investors to gain exposure to Alibaba.
But that advantage will disappear when Alibaba goes public. At that point,
Son will have to justify tying up more than a third of his companys value in a
minority stake or nd a way to part with his most successful ever investment
Watch: Breakingviews columnist Una Galani brings us up
to date
August 28, 2014
THE CAVE OPENS
15
THE CAVE OPENS
ALIBABAS TRIANGULAR DEALMAKING ADDS TO IPO QUIRKS
BY JOHN FOLEY
APRIL 9, 2014
Powerful insiders are the norm in internet companies. Alibabas tie-up with
a digital TV company adds an extra twist. The Chinese e-commerce group,
which is planning a U.S. listing, has signed a three-step deal with Chinas
Wasu Media that looks a little too clever for comfort.
The agreement to make and distribute content, announced on April 9, has
logic. The two companies, both based in the city of Hangzhou, already make
television set-top boxes together. Jack Ma, Alibabas colourful founder and
chairman, has long talked of creating culture for Chinas masses.
Employees stand next to a logo of Alibaba during a media tour at its headquarters on the
outskirts of Hangzhou, June 20, 2012.
16
BREAKINGVIEWS
The nancing of the deal is less logical. Alibaba will lend 6.5 billion yuan ($1.05
billion) to its co-founder Simon Xie at an 8 percent interest rate. He is investing
the cash in a new vehicle, co-owned by Ma and another internet mogul, Shi
Yuzhu. That vehicle in turn is investing in Wasu, in return for a 20 percent stake.
Alibaba hasnt commented on the nancial aspects of the deal. Nevertheless,
there are two problems. First, it seems unnecessarily complex. If Wasu is a worthy
partner, why doesnt Alibaba invest directly? Twitchy Chinese regulators who
closely monitor ownership of media companies may explain the need for such
manoeuvres. But circumventing the spirit of the rules would hardly be encouraging.
Second, the spoils dont appear to be evenly divided. If Wasus shares sink,
Alibabas loan may be at risk, depending on the value of the collateral that Xie has
pledged. If the shares rise, Ma, Xie and Shi apparently pocket the gains. They are
already $245 million better off after Wasu shares rose 10 percent on April 9.
Privately-held Alibaba doesnt have to answer to public markets. And the
transaction may include other terms which somehow share the trios gains
with the rest of the company.
But the triangular deal shows how hard valuing Alibaba will be. One of the
biggest questions for future investors is what happens if insiders interests
differ from their own. Ma and his cohort have already proposed that key
individuals retain the right to nominate board directors, a requirement
that scuppered Alibabas chances of a Hong Kong listing. The Wasu deal
demonstrates how blurred the line between public and private can become.
HONG KONG NEEDS TO DEFEND SHAREHOLDER DEMOCRACY
BY UNA GALANI AND PETER THAL LARSEN
APRIL 16, 2014
Hong Kong needs to make a stand for shareholder democracy. Alibabas
decision to shift its giant stock market listing to the United States has
sparked a debate about control of public companies in the former British
colony. Hong Kongs stock exchange, whose rules wouldnt have permitted
a plan to let Alibaba insiders nominate a majority of board directors, is
preparing a public consultation on shareholder rights. But dumping the
principle of one share, one vote would be a mistake.
THE CAVE OPENS
17
For a city that likes to bill itself as Chinas gateway to global capital markets,
missing out on the initial public offering of the largest e-commerce company
in the Peoples Republic is a symbolic blow. The snub raises fears that other
fast-growing Chinese companies will choose to raise capital elsewhere, leaving
the Hong Kong exchange as a stagnant backwater dominated by local tycoons
and stodgy Chinese state-owned companies. Weibo, another hot Chinese tech
company, is also planning a New York IPO.
In the United States, insiders can control public companies even when they
no longer own the majority of the shares. Google and Facebook to name
just two of the companies Alibaba views as its peers have blazed a trail by
creating multiple classes of shares with different voting rights.
Canning Fok, chairman of HK Electric Investments, reacts after hitting a gong during the debut
of at the company on the Hong Kong Stock Exchange, Jan. 29, 2014. REUTERS/Bobby Yip
18
BREAKINGVIEWS
Proponents of change argue that, in order to remain competitive, Hong
Kong must take a similar approach. This thinking is wrong-headed, for
three reasons.
First, companies arent actually abandoning Hong Kong in large numbers.
Although some Chinese groups have chosen to list on U.S. exchanges,
the exodus doesnt warrant an identity crisis. Hong Kong was the worlds
second biggest market for IPOs by proceeds in 2013, according to Thomson
One, ahead of the United Kingdom and Singapore. Large companies like
pork producer WH Group are preparing to raise capital there this year.
Thats a big achievement for a nancial centre that doesnt have a large
home-grown base of institutional investors.
Second, companies that reject Hong Kong may do so for reasons other
than corporate governance. Only half the mainland businesses that listed
in the United States over the past three years have adopted multiple
share classes. Another factor driving them away is the requirement that
companies have to be protable for at least three years or meet certain
other nancial criteria before they are allowed to list in Hong Kong. That
rule has kept away small weak companies, but also some fast-growing
start-ups.
In the past, Chinese companies chose the United States because of a
perception that investors and analysts there better understand technology.
However, the rise of Chinese internet groups like Hong Kong-listed Tencent
is evidence of growing interest in the industry from Asian investors. Poor
research coverage in the United States has prompted some U.S.-listed
Chinese companies to go private with a view to returning to Asia.
The third reason for Hong Kong to defend the status quo is that its
corporate governance is already weak. Local tycoons exercise power
through cascades of partially-listed subsidiaries, each often controlled by
a parent company. Li Ka-shings empire is a prime example. Meanwhile,
many Chinese state rms are opaque and make decisions with little
consideration for external shareholders.
Loosening Hong Kongs rules would allow controlling shareholders to
exert an even tighter grip. That was the threat in the 1980s, when local
trading house Jardine Matheson proposed creating a class of non-voting
THE CAVE OPENS
19
shares. Two conglomerates controlled by Li tried to follow suit, prompting
the regulator to step in and ban the practice. In the United States, the
prevalence of class action lawsuits helps to keep companies and their
founders in check. But Hong Kongs legal system is a lot less friendly to
litigious shareholders.
A successful capital market needs to be attractive to both issuers and
investors. If Hong Kong were to relax its rules, it might attract some new
listings or entice large companies back from the United States. However,
it would dilute shareholder protection which could push up the cost of
capital for the broader market.
Many public company investors are currently willing to give up voting
rights for exposure to fast-growing technology companies, but their
enthusiasm has not yet been tested in a downturn. Though the loss of
Alibaba is a setback, loosening Hong Kongs rules would bring greater
risks for uncertain rewards. All the more reason to make a rm stand for
shareholder democracy.
Watch: Hong Kongs Alibaba loss is New Yorks gain?
Chinese Internet giant Alibaba has chosen New York over Hong Kong for its $15 billion
IPO. Breakingviews Peter Thal Larsen and Rob Cox debate the pros and cons for the
company and the exchanges.
20
BREAKINGVIEWS
ALIBABAS BIG REVEAL: HIGH GROWTH, ODD GOVERNANCE
BY JOHN FOLEY
MAY 7, 2014
There are two things to know about Alibaba, which led for an initial
public offering in New York on May 6. First, Chinas dominant e-commerce
company is huge, and could be even bigger. Second, new investors will
have little say in how it is run the founders are keeping a rm grip.
Last year, Alibaba processed 11.3 billion orders with a value of $248 billion through
its main sites, Taobao and Tmall. Thats two-thirds more than Amazon and Ebay
combined, and a staggering 84 percent of Chinas total online shopping haul.
Unlike most online retailers, Alibaba doesnt sell or deliver goods itself. Instead, it
acts as a shop-front, charging sellers for advertising and taking some commissions.
Growth will come from two sources: increased online shopping, and Alibaba
extracting more money from sellers. Its revenue of $7.8 billion in calendar
year 2013 amounted to just 3 percent of goods sold. By comparison, ebays
take is 10 percent. Alibabas orders tend to be small averaging around
$22 apiece versus $64 for rival online retailer JD.com. But its dominance
should enable it to keep a bigger share.
Sources: Alibaba Group; Thomson Reuters.
Note: *Ownership as of July 11, 2014 ling. Son is also a director on Alibaba Groups board of directors.
C. Chan 17/07/2014
Alibaba Groups main shareholders, assets
Co-founders Jack Ma and Joseph Tsai are among the largest individual shareholders
Alibabas cloud computing
service business
Related company that
provides payment
services
Alibabas 48 percent
owned afliate; logistics
information system
business
Yahoo! Inc.
American Internet
company
22.5%
Jack Ma
Exec. Chairman of
Alibaba Group
8.9%
Masayoshi Son*
Chairman of
SoftBank Corp.
19.26%
Joseph Tsai
Exec. Vice Chairman
of Alibaba Group
3.6%
Japanese telecoms
and tech company
34.3%
SoftBank Corp.
Marketplaces
Alibabas online marketing
service business
Alimama.com
ALIBABA GROUP
Alipay.com China Smart Logistics Aliyun.com
1688.com
Alibaba.com
AliExpress.com
Juhuasuan.com
Taobao Marketplace
Tmall.com
THE CAVE OPENS
21
Governance is the sticking point. A group of 28 partners, led by chairman
Jack Ma and his number two Joseph Tsai, will nominate the majority of
Alibabas board of directors. Big shareholders Yahoo and Softbank have
pledged to back the partners choice, ensuring that a majority of shares will
vote in favour.
The theory is that this structure is more democratic than the super-voting
shares used by the founders of rival tech companies like Facebook and
Google. But its also less transparent, and therefore harder to value. Alibabas
partnership will remain in place unless 95 percent of shareholders vote to
dissolve it. Though Ma and Tsai can be removed by a simple majority of the
partners, the chances of that happening seem remote.
Its understandable that Alibaba wants to preserve the culture that contributed
to its extraordinary success. New shareholders can have no doubt about who
calls the shots. But business conditions and cultures change. Alibaba has been
rapidly expanding into new areas, from internet TV to mapping and online
video, where the founders may be less expert. Growth without good governance
is like an online retailer without a returns policy.
Watch: Tencent, JD.com team up to take on Alibaba
Tencents purchase of a stake in online retailer JD.com is less about the nancials
than a shared desire to challenge Alibabas choke-hold on China e-commerce,
says Breakingviews Peter Thal Larsen
22
ALIBABA FINANCE ARM BETTER OUT THAN IN FOR IPO
BY JOHN FOLEY
MAY 9, 2014
Alibabas secret weapon is its payment division. Yet Alipay isnt part of the
Chinese e-commerce companys upcoming initial public offering. The company
is conceptually thinking about reuniting them, according to people familiar
with the situation. But the status quo, however strange, looks better.
Founder Jack Ma spirited Alipay, which handles 79 percent of purchases
on Alibabas sites, into a vehicle he controls in 2011. His reasoning was that
regulators planned to introduce tough rules for payment operators with
foreign investors. But the rules never materialised.
Rather than put Alipay back, Ma struck a deal. The payment unit pays 49.9
percent of its pre-tax prot to Alibaba and gives it preferential terms on
BREAKINGVIEWS
Jack Ma, founder of Alibaba, answers a question during a conference in Hong Kong,
March 20, 2013. REUTERS/Bobby Yip
THE CAVE OPENS
commissions. If Alipay is oated or part-sold later, its former parent gets
cash equivalent to 37.5 percent of the units value, up to $6 billion.
Today, that arrangement looks attractive. Though Alibabas Chinese sites
account for just over a third of Alipays total transactions, the e-commerce
group still gets half the divisions pre-tax prot. The only snag is that
Alibabas cash payout is capped. Alipay, which made almost $230 million
of pre-tax prot in 2013, could soon reach the point where that $6 billion
looks light.
Changing that neednt mean a cash deal. Alibaba could swap its future
claim on Alipays IPO proceeds for an equity stake of the same size. Work
the deal out now, and it might help bump up Alibabas IPO price.
But politics is a reason not to proceed. Chinese regulators have encouraged
Alipay to disrupt the traditional banking and payment system. That would
be harder if foreign investors openly shared the spoils. Alibaba would also
have to negotiate with Ma, its own chairman. It would be hard to convince
incoming investors a deal was done on truly impartial terms.
That makes the simplest course the best: to leave well alone. The most
valuable thing for Alibaba is the preferential rates it gets on the billions of
transactions it runs through Alipay. Those are safe for 50 years. The risk is
that Alipay turns into a real giant, and Alibaba misses out on a windfall. But
on balance, a status quo that investors can quantify is better than a stake in
a privately-held company, and a heap of political risk, that they cant.
23
24
BREAKINGVIEWS
RISK AND REWARDS
TWO DEALS ALIBABA COULD STRIKE IN AMERICA
BY ROBERT CYRAN
MAY 15, 2014
Alibaba boss Jack Ma is busy preparing for a U.S. initial public offering,
potentially valuing his company at more than $100 billion. But if he really
wants to make it big in America, he may have to buy his way in. There are at
least two deals he could strike. Buying Yahoo would tidy up some corporate
and tax-related loose ends as well as providing a U.S. bridgehead. The
stronger industrial logic, though, could eventually suggest a tilt at eBay.
Mas goal early on was for Alibaba to become a top-10 internet rm
and last 102 years. In 2011, he hinted at interest in Yahoo. At the time,
Alibaba wanted to reduce foreign ownership and Yahoos valuation was
depressed. The U.S. search rms stake is now smaller and its stock richer.
Ongoing efforts to make acquisitions in China and take small stakes in U.S.
companies with relevant technology, along with going public, may mean
Ma has enough on his plate without the nancial and political risks of a big
American transaction.
Yet making it big in the United States as well as China could well require a
trusted U.S. brand. Moreover, Yahoo has a problem. When it sells shares
in Alibaba, the Internal Revenue Service takes perhaps 30 percent of the
proceeds. Yahoos current roughly 23 percent stake could be worth $27
billion before tax at a $120 billion valuation for Alibaba. Avoiding a tax hit
approaching $10 billion altogether would be a big deal for a company whose
own market capitalization is $34 billion.
If Alibaba bought Yahoo, in essence buying back the U.S. companys stake,
the tax treatment could be far more favorable. Ma might also gain an extra
housekeeping opportunity. Yahoos other big Asian holding is Yahoo Japan,
a joint venture with Masayoshi Sons SoftBank. Some kind of exchange
involving that stake and SoftBanks 34 percent of Alibaba could one day
help Ma reduce his other big foreign shareholding too.
Yahoos mostly stagnant business is less compelling. Strategically, Mas
more natural U.S. target would be the $65 billion eBay, with its auctions
RISKS AND REWARDS
25
and e-commerce and even the PayPal business to go along with Alibabas
sister company Alipay. That would, of course, be a huge bite even if
Alibabas IPO turns out to be a blockbuster. But for Ma to go after his
biggest inspiration would surely not be out of line with his ambition.
Sources: Companies; Thomson Reuters.
C. Chan 17/07/2014
Alibaba versus major tech companies
REVENUE: Alibaba's revenue for the calendar years 2013 and 2012 calculated using quarterly gures quoted in
Yahoo lings. MARKET CAPITALIZATION: Amazon, Google, eBay and Facebook based on close of trading on July
16; Alibaba based on internal valuation given in Alibaba ling on July 11. WORKFORCE: Amazon includes full-time
and part-time staff; Google includes full-time employees as of end 2013; eBay includes temporary employees;
Facebook as of end 2013; Alibaba as reported in updated lings on July 11.
2013 REVENUE
Billion dollars
0
20
40
60
80
100
Facebook Alibaba eBay Google Amazon
MARKET CAPITALIZATION
Billion dollars
0
100
200
300
400
500
Facebook Alibaba
(est.)
eBay Google Amazon
2013 REVENUE GROWTH RATE
Percent change, year-on-year
0
20
40
60
80
100
WORKFORCE
Thousand persons
0
30
60
90
120
150
26
BREAKINGVIEWS
ALIBABA TRIES OUT ROLE OF THE NOBLE MONOPOLIST
BY ETHAN BILBY
MAY 20, 2014
Alibaba is trying out a new role: the noble monopolist. With an apparent
84 percent share of online consumer goods spending, it effectively owns
the countrys internet shoppers. Its payment afliate is the biggest game in
town. Both are attractions for its upcoming initial public offering. Alibabas
long-term challenge is to keep showing that dominance helps the market
rather than restricts it.
The company isnt like Chinas traditional monopolists. It comes from
popularity rather than ofcial handouts or restrictions unlike, say, tobacco
or salt, or the oligopolies that control telecoms and banking. Where
bad monopolists promote inefciency, Alibaba has done the opposite,
connecting buyers and sellers who would never otherwise meet.
Watch: Alibabas next move
Breakingviews columnists discuss whether the Chinese e-commerce giant should buy
either Yahoo or eBay as a way to make a splash in the United States after its IPO.
RISKS AND REWARDS
27
Chinas thinking on market clout is still developing. A 2008 anti-monopoly
law lets multiple regulators investigate even state-owned companies if they
believe harm is being done to the marketplace, like setting unjustly high or
low prices. Chinas National Development and Reform Commission, which
regulates prices, has been investigating China Telecom and China Unicom
for over two years regarding broadband tariffs.
Alibaba isnt on the radar. A hike in annual fees by its online marketplace
Tmall led to protests by small merchants in 2011. Chinas Ministry of
Commerce then stepped in urging Tmall to defuse the conict. Alibaba
later agreed to delay new fees for sellers with positive ratings. While there
was no suggestion of anticompetitive behaviour, it showed how Tmalls
market strength makes it both visible and sensitive.
Watch: Why Alibaba monopoly may be good for China
E-commerce giant Alibabas agile, customer-centric approach make it a model for new
kind of monopoly in China as the government moves to regulate dominant businesses,
says Breakingviews John Foley.
28
BREAKINGVIEWS
Payment service Alipay is similarly strong, powering half of Chinas online
transactions last year. While not a part of Alibabas IPO, users registering
for Tmall automatically receive an Alipay account. Other tech companies
have faced scrutiny over linked services. Chinas top court ruled this year
software provider Qihoo 360 unfairly harmed rival Tencent by bundling
software with its QQ messaging program.
For now authorities seem to buy the noble monopolist concept. If
anything, Alibaba is helping to prize open other, less efcient market
concentrations: its online money-market fund platform Yu E Bao has forced
banks to offer similar products to keep up. That allows it to argue its size
is for the greater good. For investors, the question is for how long that
continues to ring true.
JACK MA SOCCER BUY DOES ALIBABA INVESTORS A FAVOUR
JUNE 6, 2014
Jack Mas decision to buy half of Chinas most popular soccer club has done
prospective investors in Alibaba a favour. The $192 million investment in
Guangzhou Evergrande which the internet giants founder hatched over a
drinking session this week wont affect Alibabas value when it goes public
later this year. But it offers a priceless insight into how the company works.
If Alibaba has a good strategic reason for owning a stake in the reigning
Asian champions, Ma is keeping quiet about it. He joked at a press
conference that he doesnt know much about soccer. The investment is
latest example of Alibabas scattershot approach to deal making, loosely
designed to expand it into new areas like entertainment and health. In
the last year it has bought stakes in an appliance maker, an owner of
department stores, a mapping rm, an online video service and a Hong
Kong-listed media group.
Its not unheard of for companies to own sports clubs. Ted Turner used
the Atlanta Braves baseball team to build his cable television business.
Rupert Murdochs News Corporation owned the LA Dodgers baseball
franchise and tried unsuccessfully to buy Britains Manchester United.
Chinese conglomerate CITICs assets include a Beijing soccer club. Yet
RISKS AND REWARDS
29
such investments have generally been disappointing from a nancial
perspective. Control of sports broadcasting rights has proved more
lucrative.
Ma has demonstrated a knack for identifying big trends. His approach
also doubtless owes a lot to Chinas business landscape, where the need
to maintain personal relationships, curry favour with ofcials or comply
with ownership restrictions can force companies to take counter-intuitive
steps. And Mas style is no more idiosyncratic than that of Facebooks
Mark Zuckerberg, who reportedly nalised the $19 billion acquisition of
WhatsApp this year while eating strawberries with the messaging services
founder.
Chinas Guangzhou Evergrande fans celebrate after their team won the nal match of the
AFC Champions League in Guangzhou, Nov. 9, 2013.
30
BREAKINGVIEWS
The Guangzhou Evergrande investment also wont change Alibabas
valuation, which a Breakingviews calculator estimates at $113 billion. Yet it
is invaluable in demonstrating how the company operates. After the initial
public offering, a group of 28 senior executives led by Ma will nominate
the majority of Alibabas board of directors. Would-be shareholders will be
passive spectators with little power. The latest deal should leave them with
no illusions about what to expect.
Watch: Alibaba soccer buy shows investors the score
China e-commerce giant Alibaba decides to buy half of a soccer club over drinks,
showing the companys rather whimsical approach to investment ahead of its IPO,
says Breakingviews Peter Thal Larsen.
RISKS AND REWARDS
31
ALIBABA IS CASE-STUDY IN U.S.-CHINA LEGAL GULF
BY RICHARD BEALES
JUNE 23, 2014
Alibabas coming U.S. initial public offering will probably value the Chinese
e-commerce rm at more than $100 billion. But will shareholders actually
own the business? Thats the timely concern raised by a U.S. congressional
commission. Lack of legal clarity in the Peoples Republic is mainly to
blame.
The U.S.-China Economic and Security Review Commission, which monitors
bilateral relations on behalf of Congress, on June 18 published a paper
highlighting the legal risks of so-called variable interest entities (VIEs).
Many Chinese companies use these contracts to give offshore investors
control over and economic benets from mainland businesses they
cannot own directly.
An employee is seen behind a glass wall with the logo of Alibaba at the companys headquarters on
the outskirts of Hangzhou, April 23, 2014. REUTERS/Chance Chan
32
BREAKINGVIEWS
Investors have swallowed the risks of VIEs in plenty of other cases, like
the recent U.S. IPO of microblogging site Weibo. Foreign shareholders
assume the Chinese authorities would be reluctant to undermine the
growing number of companies with overseas listings that rely on the
structures.
Alibaba says businesses held through VIEs account for only about 17
percent of its assets. The rest goes through wholly and majority foreign-
owned enterprises. Besides, the company discusses its VIE arrangements
at length in its IPO documents and quotes a Chinese law rms opinion that
everything is legal.
Still, the U.S. commissions paper calls VIEs an intricate ruse and says
they are potentially illegal in China. Even Alibaba concedes that efforts to
enforce contractual rights on the mainland could be challenging. Though
the company is big and entrenched enough to matter to the economy,
Watch: Why the wheels may come off for China Internet
investors
Foreign investors might be able to buy a piece of Chinese Internet giants like Alibaba,
but a murky corporate structure ensures shareholders will never be in the drivers seat.
John Foley explains.
RISKS AND REWARDS
33
the danger for prospective Alibaba investors is that its prominence in the
sensitive internet sector would put it in the crosshairs should Beijing decide
to crack down on VIEs.
The commission raises another legal issue that doesnt get as much
attention. Once Alibaba lists on a U.S. exchange, it will be subject to new
aspects of the sprawling Foreign Corrupt Practices Act. If, for example, the
company mischaracterized corrupt payments in its accounts, American
authorities could take action.
Of course, China has its own anti-graft laws, and theres no suggestion
Alibaba has done anything wrong. Yet the U.S. report is a reminder that
there are risks both in the uncertainty of Chinese legal arrangements and
in the certainty that U.S. law has extraterritorial reach. Investors shouldnt
forget that Alibaba is a case study in the gulf between the two legal
systems.
THE PERKS AND PITFALLS OF DEPENDING ON JACK MA
BY JOHN FOLEY
JULY 21, 2014
Buy a share in Alibaba and you place your trust in Jack Ma. The Chinese
e-commerce giants founder, executive chairman and spiritual sultan will
remain a controlling force even after the company completes its massive
initial public offering later this year. The $100 billion-plus question for
prospective shareholders is whether they can depend on him to always act
in their best interests.
Given Alibabas success, the question may sound absurd. Under Mas
leadership, the Hangzhou-based retail marketplace has grown into
a colossus. Almost 85 percent of Chinas e-commerce activity passes
through its Taobao and Tmall platforms. Revenue in the rst quarter of
2014 increased 39 percent to 9.4 billion yuan ($1.5 billion). When the long-
awaited IPO debuts in September, it could be one of the largest ever, likely
surpassing the $16 billion raised by Facebook in 2012.
34
BREAKINGVIEWS
But the company and Ma are at a turning point. After years of expanding its
market share, Alibaba is now under attack from Chinese rivals like JD.com,
which resembles Amazon. The group is straying into new areas from mobile
messaging and maps to cable TV and football. It has spent at least $7.3
billion on acquisitions since January 2014. What Alibabas leader does next
is integral to the companys value.
Mas inuence outweighs his 8.9 percent shareholding and his ofcial
title. Besides being Alibabas public face, he heads a committee of 27
partners that collectively nominates more than half the companys board
of directors. Shareholders can veto each choice, but then the partners can
shoehorn in an alternative until the following year. Yahoo and Japans
SoftBank, which together could own over 50 percent of the companys stock
after the IPO, have already agreed to back the partnerships decisions. In
practice, this means outside investors will have almost no say over how the
company is run.
The traditional cloth shoes of Jack Ma, founder of Alibaba, are pictured at a news conference
in Beijing, Jan. 19, 2011.
RISKS AND REWARDS
35
That might not matter, except that Mas motivations are not quite the same
as those of other shareholders. Ma personally holds some of Alibabas key
licences through vehicles called variable interest entities (VIEs) that are
necessary to get around Chinas foreign-ownership rules. He also controls
the vehicle that owns the companys Alipay payment unit and its money-
market fund afliate. These businesses are not part of the IPO, but are
entwined with Alibaba through a series of complex agreements, raising the
potential for conicts of interest.
Mas record doesnt offer much reassurance. In 2011 he shifted Alipay out
of Alibabas control. The reason was to ensure it got a vital licence from the
central bank. But the transaction highlighted a pillar of Mas philosophy:
sometimes tough, unpopular decisions must be made at a moments notice.
Other perplexing decisions seem less necessary. Take the impulse
purchase of a stake in a Chinese football team. Another investment in
a mainland cable TV company involved Alibaba lending cash to one of
Mas co-founders. And in other deals, the private equity fund Ma founded
has popped up as a co-investor. As the company grows, the possible
transactions Alibaba could consider also get bigger: tilts at Yahoo or even
eBay are in the realm of possibility.
Investors are also taking on Mas political persona. Alibaba has overcome
obstacles that kill off many non-state companies. One reason is that the
entrepreneur enjoys lashings of support from Beijing, making him a kind
of political shock absorber. The companys base in Zhejiang puts Ma in the
orbit of Chinas President Xi Jinping, formerly the provinces party chief. And
one of Alibabas investors is a fund founded by the son of former premier
Wen Jiabao, the New York Times reported on July 21. Ma understands the
opaque rules that govern Chinas system of licences and permissions, and
the importance of championing consumers and small businesses. Alibaba
supports almost 12 million jobs.
One risk is that Mas star ascends too rapidly. The ruling Communist
Party loves a Chinese success story, but hates a cult of personality. Ma
has compared his situation during the Alipay controversy to that of Deng
Xiaoping, Chinas paramount leader, as he sent tanks into Tiananmen
Square to crush democracy protesters in 1989. And its not just politicians
that might bristle at Mas ambition. In the nancial world, Alibabas push
36
into online investment funds is a direct challenge to state banks, which
make for powerful enemies.
A backlash could take many forms. Alibabas effective monopoly over
online retail makes it a potential target for antitrust scrutiny. Alibabas
VIEs, meanwhile, have questionable legal status in China. Shutting down
the countrys favourite e-commerce operator would be unthinkable, but
forcing it to restructure so that foreign shareholders must sell out, or a state
investor be brought in, is conceivable.
What would Alibaba look like without Ma? Its more than a hypothetical
question for a company that says it wants to endure for at least another 87
years. The succession plan is not clear, even though the 49-year-old Ma
already faces other demands on his time from philanthropic activities and
ambitions to help clean up Chinas environment.
BREAKINGVIEWS
Watch: Investors and the Alibaba leap of faith
Potential investors in Alibaba can probably trust founder and chairman Jack Ma to act
in their interests - but with a few important caveats, says Breakingviews John Foley.
RISKS AND REWARDS
37
Alibabas founder is arguably modern Chinas most successful
entrepreneur. But he has also made little secret of where his priorities
lie: customers rst, employees second and investors third. So far, the
incentives of those three groups have been aligned. If that changes,
investors could nd themselves powerless. Buying a share in the upcoming
IPO is a vote of condence in Jack Ma, but one that should come with hefty
caveats.
38
BREAKINGVIEWS
TWELVE DIGITS, MANY QUESTIONS
ALIBABAS FUTURE DOESNT DEPEND ON MAGIC NUMBERS
BY JOHN FOLEY
JULY 18, 2014
Alibaba has shifted its likely initial public offering date from August to
September. That means the Chinese e-commerce colossus will miss the
previously mooted double 8. But it matters little. Whatever happens,
Alibabas IPO is likely to generate some fantastical numbers it can do
without lucky ones too.
The eighth of the eighth has double signicance, since in Chinese its
pronunciation is the same as the companys stock symbol, BABA. More
signicant for investors, however, are the gures Alibabas operating
business produces. With 39 percent revenue growth in the rst quarter
Jack Ma, founder of Alibaba, gives the thumbs-up at the Hong Kong stock exchange,
Nov. 6, 2007. REUTERS/Herbert Tsang
39
of 2014, and a market share of around 85 percent, Alibaba doesnt need
gimmickry. A more mundane IPO date would show future investors that
common sense is prevailing over ego.
And as Facebook discovered, reaching for totemic numbers can backre.
The U.S. social network, whose $16 billion listing in May 2012 is likely to be
pipped by Alibabas own, was designed to suck as much out of shareholders
as possible. That proved a miscalculation. After oating, the companys
share price collapsed, and took over a year to recover.
When Alibaba does price its shares, it will be keen to show it is no Facebook. As
for the date, though, bureaucracy probably plays more of a role than design.
The New York Stock Exchange vets company lings closely, and Alibaba is only
on its third round of amendments. Facebook and Groupon each had to amend
and resubmit their paperwork eight times. So the magic digit may still turn up
after all, just not where observers originally expected.
YAHOOS MAYER NEARS POST-ALIBABA RECKONING
BY RICHARD BEALES
JULY 31, 2014
Yahoo is a big company with a much smaller one struggling to get out. A
22.5 percent stake in Alibaba accounts for well over half the U.S. internet
groups roughly $36 billion market capitalization, according to a new
Breakingviews calculator. With the Chinese e-commerce giant likely to go
public next month, Yahoo Chief Executive Marissa Mayer will nd out how
investors value the businesses she actually runs.
Alibaba is worth around $130 billion before any new money is raised, based
on its latest published internal valuation. Assuming Yahoo eventually pays
tax at 30 percent on its gain above the small original cost, the post-tax
value of its stake is more than $20 billion. Yahoos other Asian holding, a
35.5 percent interest in Yahoo Japan, is worth a bit more than $6 billion
after tax.
40
BREAKINGVIEWS
Within Yahoos enterprise value, after deducting net cash, of around $33
billion, that leaves the companys own businesses worth a little over $6
billion. And two years into Mayers tenure, total revenue is still shrinking,
second-quarter nancials showed earlier this month.
Yahoo recently negotiated downward the maximum number of Alibaba
shares it has to sell in the initial public offering. But ofoading just over a
quarter of its holding will still bring in more than $5 billion after tax, more
than doubling Yahoos stash of cash and marketable securities.
Mayer has managed to get search-related revenue growing again, by 2
percent year on year in the second quarter using the standard accounting
denition. She needs to maintain that, despite being locked into a stagnant
partnership with software giant Microsoft, while also rescuing display ads,
where the top line declined 8 percent. Acquisitions offer some hope of
Whats left for Yahoo after Alibaba goes public?
The Chinese e-commerce rm accounts for over half its value
Yahoo share price*
Alibaba share price**
Alibaba market value before
IPO proceeds - US$bln
$30 $45
$45 $75
$36.0
$56.0
130.3
33.2
$20.5
$6.4
$6.2
62%
19%
19%
EV breakdown - $
Total Yahoo enterprise value - $bln
Alibaba
Yahoo Japan
Yahoos own
businesses
R. Beales, V. Flasseur 31/7/2014

* Approx. $36 on July 24-31
** $56 is internal valuation per Alibaba draft prospectus, July 11

Source: Breakingviews
41
growth. For instance, buying internet upstart Tumblr for $1.1 billion last year
injected social media credibility, though not obviously much revenue.
Mayer has sensibly promised to return at least half the post-tax Alibaba
proceeds to shareholders. While rivals like Facebook splash cash on big,
risky acquisitions, the Yahoo shambles Mayer inherited and has not yet fully
xed calls for some skepticism. Once Alibaba has its own U.S. listing and
investors dont need to buy Yahoo as a proxy, the value attributed to the
search and display businesses will be easier to quantify. That will put Mayer
under a narrower, brighter spotlight.
CHINAS E-COMMERCE SECRET WEAPON: THE DELIVERY GUY
BY JOHN FOLEY
AUGUST 11, 2014
Want a Big Mac delivered to your door in minutes? Or a refrigerator by the
end of the day? While U.S. retailers puzzle over how to make that happen,
Chinas e-commerce companies are already there. Servicing the countrys
web-connected consumers at ever-faster speeds is driving some big
businesses, not to mention stock market valuations. The secret weapon: the
humble delivery guy.
Chinese e-commerce companies have taken two contrasting approaches to
shipping. JD.com, the online marketplace that resembles Amazon, employs
over 24,000 delivery workers, and is using the proceeds from a $1.8 billion
initial public offering in May to take on more. Its closest rival Alibaba, likely to
complete its own IPO in the next few months, doesnt have its own logistics
network, but depends on a huge ecosystem of other distribution companies.
Alibaba is leading a consortium that plans to invest $16 billion in logistics.
In the West, companies like Amazon have struggled to bridge the last
mile between warehouse and consumer at a low price. The ghost of dot-
com failure Kozmo.com, which offered fast but uneconomical delivery of
small items, hangs over them. By contrast, JD.com customers can place
orders before 3 p.m. in some cities and receive their goods with no shipping
charge by midnight the same day.
42
BREAKINGVIEWS
One reason is that while American e-commerce arrived when the country was
already rich, Chinas online shopping boom has come while the country is still
relatively poor, with cheap labour. That makes the last mile easier to bridge.
The median U.S. local delivery employee is paid around $29,000 a year,
according to the Bureau of Labor Statistics. A busy Chinese courier can make
around $8,000 a year. Yet the cost of goods often isnt that different. The same
pair of Nike Hyperdunk 2014 basketball shoes costs $118.44 on Amazons U.S.
site and $150 on Alibabas Tmall marketplace. The U.S. shopper forks out
$8.95 for shipping, while the Chinese buyer pays just $1.62.
Internet companies increasing investment into the last mile is causing
upheaval in Chinas express delivery industry, which has 9,000 licenced
companies, and which Credit Suisse estimates employed 1 million people
by the end of 2013. State-owned EMS is being challenged by local and
private players now that 60 percent of express orders are generated by
e-commerce.
A man rides an electric bicycle loaded with shoe boxes along a street in Beijing,
May 16, 2014. REUTERS/Petar Kujundzic
43
That calls for a more sophisticated kind of courier. Companies like Sherpas,
which delivers for restaurants in Beijing, Shanghai and Suzhou, have grown
by upgrading the image of the ubiquitous bike guy. (Sherpas front-line
employees, like those of most logistics companies, are overwhelmingly
male.) Its 200 or so delivery workers must be tech-savvy, presentable and
able to handle payment on the doorstep. Those are the same kind of staff
that JD.com and peers are aiming for too.
Even for China, though, unfriendly demographics are in the post. The
typical e-commerce delivery worker in big cities is male and between
20 and 30 years old. But that group could shrink 30 percent between
2010 and 2030 according to forecasts from the United Nations. Wages
are growing faster for lower-income groups and economic migrants in
other words, those who deliver goods than for the richer folk who buy
them.
Productivity and scale will delay the effect. Even e-commerce companies
that dont run their own delivery have an interest in helping make courier
companies more efcient. Alibaba offered weather and trafc monitoring
for couriers working during its Singles Day online shopping festival in
November last year. It makes sense: when millions of packages are late, its
Alibaba whose reputation suffers.
Getting creative is another option. Shippers can shift delivery to local
pick-up points, such as grocery stores, lockers and carts that park outside
subway stops and ofce buildings. But the further the delivery gets from the
front door, the more the advantage over traditional retail is eroded. Delivery
by drone may happen one day, but not soon.
As efciency gains fade, who bears the burden of rising delivery wages?
Thats the big battle facing Chinese e-commerce. Once consumers are used
to getting things for free, it will be hard to change their mindset. Sherpas
charges clients 15 yuan ($2.40) for deliveries within 3 kilometres and that
price hasnt changed in 15 years. If consumers wont bear the rising costs,
retailers will have to absorb them.
How this tug-of-war is resolved matters a lot for investors in a company
like Alibaba, whose 46 percent net prot margin reects the lack of its own
44
BREAKINGVIEWS
fullment infrastructure, and for shareholders in JD.com, which has incurred
heavy losses by controlling its own delivery. Most likely, the two will converge.
Alibaba investors may not love that result. But for the average online shopper
and the delivery guy its a gift that will keep giving.
ALIBABA PAYMENTS CLEAN-UP MAKES FOR NEATER IPO
AUGUST 13, 2014
Alibaba just cant stop tinkering with its corporate structure. Weeks before
the Chinese e-commerce juggernaut is due to start a roadshow for an initial
public offering, it has tidied up relations with its payments afliate. Though
the new arrangement is still messier than shareholders might want, it
should make for a neater IPO.
Alibabas relationship with Alipay is complex and sensitive. The unit
processes more than three-quarters of the transactions on the Chinese
groups websites, but has been owned by a private vehicle controlled by
founder Jack Ma since 2011. That business, known as Small and Micro
Financial Services Company (SMFSC), is also home to other ventures like
its fast-growing money market funds. For customers, the units connect
seamlessly. The corporate links are more complicated.
The latest reshufe aims to draw a clearer line between the two entities.
Alibaba will focus on e-commerce, while SMFSC will stick to nance. As
part the deal, Alibaba is handing its afliate a portfolio of loans to small-
and medium-sized enterprises. The transfer helps to reduce the risk of
meddling by Chinese nancial regulators.
Under the old arrangement, Alibaba received 49.9 percent of Alipays pre-
tax prot. The new deal entitles it to 37.5 percent of everything SMFSC
brings in before tax. Alibaba thinks the claim on the earnings of a bigger
business more than compensates for its reduced share. Its accountants
calculate that the restructuring has boosted the companys value by
roughly 1.3 billion yuan ($211 million). However, its hard for outsiders to be
sure because Alibaba does not tell them anything about SMFSCs nances.
Besides, Alibaba admits that if the new arrangement had been in place for
the last scal year, its net income would have been slightly lower.
45
In the absence of more information, prospective Alibaba shareholders
probably wont attach much value to the relationship with SMFSC. However,
the restructuring does provide them with some insurance against future
embarrassment. If SMFSC turns out to be a nancial behemoth and goes
public, Alibaba will be entitled to 37.5 percent of the value of its equity with
no upper limit or a 33 percent shareholding, regulators permitting. That
knowledge should allow investors to spend less time worrying about Alibabas
nancial afliate, and concentrate on its prospects in e-commerce.
ALIBABA DEAL SPREE TURNS FROM ROMANCE TO THRILLER
BY JOHN FOLEY
AUGUST 15, 2014
Alibabas investment story has turned from romance to thriller. Its Hong Kong
movie-making afliate has uncovered possibly non-compliant accounting
just four months after the Chinese e-commerce giant bought a 60 percent
stake. Its not clear whether Alibabas controls were awed but it certainly
raises questions about the value of the companys recent investment binge.
The stake in ChinaVision, as the company was previously known, is just
one of a string of recent deals. In total, Alibaba and its afliates have
spent $7.5 billion on acquisitions and investments this year, according to
gures compiled by Reuters. While the company has made light of its deal-
making processes in the past founder Jack Ma supposedly agreed to buy
a stake in a soccer team after a drinking session - the ChinaVision deal was
approved by the board following due diligence by an outside accounting
rm, according to people familiar with the situation.
Still, its a blow to the idea that Ma always deserves the benet of the doubt.
Like many of Alibabas investments, the logic of buying a lm studio was fuzzy
for a company whose main business is matching buyers and sellers of goods
online. Alibaba did little to explain. That didnt stop investors from rushing to
ride on the companys coat-tails. Before the shares were halted, the renamed
Alibaba Pictures had a market capitalisation of HK$34 billion ($4.4 billion),
more than triple the valuation implied by Alibabas investment.
The nancial damage wont be clear until Alibaba Pictures reveals the size
of the write-downs. Its parent will no doubt have tough questions for former
46
BREAKINGVIEWS
chairman Dong Ping, who moved aside in June though remains a consultant
and a 9 percent shareholder, and for Deloitte, the companys long-time auditor.
The real casualty of the saga, however, is the notion that Alibabas investments
automatically create value for its shareholders and those of its targets. Though
substantial, its spending spree this year is small in the context of the groups
mammoth e-commerce business and its mooted $100 billion-plus valuation.
But a glimpse of less-than-perfect judgement so close to the initial public
offering is exactly the kind of plot twist Alibaba doesnt need.
SIX STEPS TO ALIBABAS TWELVE-FIGURE VALUATION
SEPTEMBER 1, 2014

How do you value a tech company? What about a dominant, fast-growing,
protable tech company with no peers that operates in an opaque
economy? Fund managers need to decide as Alibaba kicks off the roadshow
for its long-awaited initial public offering. Breakingviews offers a six-step
guide to sizing up Chinas biggest e-commerce group.

How fast can Chinese e-commerce grow?

Four in every ve yuan spent on online shopping in the Peoples
Republic last year travelled across Alibabas websites. So the
companys growth depends on expanding the overall market. The omens
are good. Less than half of Chinas population had access to the internet
last year; U.S. penetration is more than 80 percent. Alibaba signed up
24 million new active buyers in the three months to June, and the value of
transactions was 45 percent higher than in the same period of 2013. Growth
of 30 percent for the next two years is not a stretch.
How much revenue can Alibaba generate?

Alibabas business model is to capture a small slice of the value of the
transactions it processes, either from advertising or commissions. In the
year to March, this monetisation rate was 2.55 percent. But almost a
47
third of buying and selling in the most recent quarter took place via
handheld devices, where the monetisation rate is half the level for desktop
transactions. Over time, the gap should close with the gure for desktop
transactions currently about 3 percent.

Can Alibaba stay super-protable?

Network effects are great for protability. The more shoppers Alibaba at-
tracts, the more merchants want to display their goods, luring more buyers.
Meanwhile, the companys asset-light model keeps overheads low. Aliba-
bas operating margin in the year to March was an astonishing 47 percent.

But super-protability invites competition. Alibaba may be forced to spend
more on marketing and technology, or get directly into the business of
storing and delivering goods. In the three months to June the last set
of nancial data before the IPO product development costs rose by
almost 70 percent, while sales and marketing expenses nearly doubled.
Alibabas operating margin fell to 43 percent its lowest in almost two
years. A still-high level of 40 percent may be a realistic forecast.

How much should you pay for Alibabas earnings?

Most tech stocks trade on high price-to-earnings ratios because investors
believe future potential exceeds current protability. Alibabas challenge is
to grow while keeping its margins. Though stock market multiples are
subjective, a market value of 30 times earnings for the year to March 2016
the same as rival Tencent seems a reasonable starting point.

What about the other bits?

Alibabas ambitions extend far beyond e-commerce. Its online nance
afliate, which includes payment division Alipay, is now challenging banks
with small business loans and money-market funds. Though Alibaba has
no ownership stake, it receives 37.5 percent of the units pre-tax prot and
has a right to the same proportion of its equity value in an eventual IPO.

Overseas expansion also has value. International sales accounted for less
than a tenth of revenue in the most recent nancial year. But a recent
partnership with Singapore Post shows the company is seriously looking
beyond Chinas borders. In addition, Alibaba and its afliates have spent
around $7.5 billion on acquisitions and investments so far this year as the
company pushes into in industries from media to mapping.

And the downside?

Alibabas exposure to its home country is one potential negative. The
ruling Communist party could cut Alibaba down to size if it were deemed
too powerful. Like other U.S.-listed Chinese companies, Alibaba is
exposed to ongoing battles over accounting regulation and the semi-legal
structures listed companies use to control their mainland operations.

Then there is corporate governance. Founder and chairman Jack Ma wants
control of the company to remain with 27 executives, known as partners.
Outside shareholders get little say. The likes of Google and Facebook also ope -
erate on the whims of their founders. But Ma has behaved unpredictably in the
past, shifting the Alipay business from a listed unit to a private vehicle in 2011.

Putting it all together

Valuing future business lines is always tricky, as is putting a discount for
shaky governance. The most elegant option is to assume the two cancel
each other out.

Now suppose transactions grow by 30 percent annually for the next two
years, and that Alibabas overall monetisation rate reaches 3 percent.
Assume its operating margin stabilises at 40 percent, apply a historical
15 percent tax rate, and net income in the year to March 2016 would be about
$5.25 billion. On a 30 times multiple, Alibabas equity would be worth
$158 billion.

Its not hard to get a higher gure: lift the annual growth rate to 40 percent
and Alibabas operating margin to 45 percent, and its market value rises above
$200 billion. Analysts will have their own assumptions. For investors the trick is
to make sure six steps and twelve digits dont turn into too great a leap.
48
BREAKINGVIEWS
ABOUT US
49
Cover by Troy Dunkley, Reuters, 2014.
ACKNOWLEDGEMENTS
Research by Robyn Mak.
Production by Katrina Hamlin.
Design by Gavin White and Nita Webb.
BREAKINGVIEWS
Agenda-setting nancial insight
Reuters Breakingviews delivers fast intelligence, in-depth features and lively opinion
pieces on nancial issues throughout the day. Our award-winning columnists and edi-
tors distil the worlds most important news into compelling and provocative articles to
provide a clear view on the daily issues affecting the global markets.
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on Reuters.com and in more than a dozen inuential newspapers around the world
including the International New York Times.
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ALIBABA AND THE TWELVE DIGITS

U. Galani, P. Thal Larsen 27/02/2014

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